Does inflation eat up my cash?
Economist strive there whole life
on two terms “growth”
and “Inflation”.
For a common man, growth is friend which enhances his standard of living, while
inflation is enemy which degrades his standard of living. An annual
inflation rate of 4% implies on average the common man’s consumption basket cost
increases by 4% compared to previous year. Simply put a product which costs
$100 in the previous year would cost $ 104 in the current year.
Existence of Inflation can be
construed based on the relationship between price, quantity and quality of
the product. An increase in price of the product for
improved quality/more quantity may not reflect inflation. To
understand let’s assume Mr X bought a product for $ 100; after few days he buys
the same product (with enhanced Quality
& utility) for $ 104, the increase in $4 reflects better quality product
and hence may not construed inflation. Inflation exists when price increase is not
supported by improved quality or more quantity.
Inflation do exist even when
price remains stable/ price decrease; for ex Mr X, Over last few
years has been paying $2 for a cup of coffee, however the size of the cup over
last few years has been shrinking (quantity declining without prices).
A $100 Product today would be priced at
$10,126 (more than 100 times) after 60 years @ 8% inflation rate. Expected price of today’s $ 100 product in
future at different inflation rate is as shown in table below:
Expected
price of today’s $ 100 product
|
No
of Years from Now
|
||||||
10
Year
|
20
Year
|
30
Year
|
40
Year
|
50
Year
|
60
Year
|
||
Inflation
Rate (%)
|
0%
|
100
|
100
|
100
|
100
|
100
|
100
|
2%
|
122
|
149
|
181
|
221
|
269
|
328
|
|
4%
|
148
|
219
|
324
|
480
|
711
|
1,052
|
|
6%
|
179
|
321
|
574
|
1,029
|
1,842
|
3,299
|
|
8%
|
216
|
466
|
1,006
|
2,173
|
4,690
|
10,126
|
|
Inflation
eats up purchasing power of cash.The table below quantifies the reduction of the purchasing ability of
cash at different inflation rate and different time frame.
Reduction
of cash purchasing ability (%)
|
No
of Years from Now
|
||||||
10 Year
|
20 Year
|
30 Year
|
40 Year
|
50 Year
|
60 Year
|
||
Inflation
Rate (%)
|
0%
|
0.0%
|
0.0%
|
0.0%
|
0.0%
|
0.0%
|
0.0%
|
2%
|
18.0%
|
32.7%
|
44.8%
|
54.7%
|
62.8%
|
69.5%
|
|
4%
|
32.4%
|
54.4%
|
69.2%
|
79.2%
|
85.9%
|
90.5%
|
|
6%
|
44.2%
|
68.8%
|
82.6%
|
90.3%
|
94.6%
|
97.0%
|
|
8%
|
53.7%
|
78.5%
|
90.1%
|
95.4%
|
97.9%
|
99.0%
|
|
To understand, let’s assume Mr X
gets a $100 Birthday gift on his 10th Birthday and he could have spent
his money to purchase product Y for $100; However Mr X decides to keep it in
aside without spending and after 60 Years Mr X will still have his $100; however
Product Y would cost $10,126 (@inflation rate 8%). Thus Mr X $ 100 can buy 1%
of Product Y or Mr X $100 purchasing ability has reduced by 99% over last 60
years
Conclusion: Cash keeps losing its value against inflation. Purchasing
ability of cash would decline faster at higher inflation rate and longer period. Thus
make sure your cash is not sitting idle. While planning for the future, consider the impact of inflation to avoid negative surprises in future.
